Real Estate Investing Guide for Beginners: What Is a Good Cash on Cash Return for a Multi Family Investment?
Cash on cash return is part of your investment property analysis. It is a way of estimating the return on investment on a rental property. So, in essence, it is a way to determine whether the investment property is worth your money.
Before we answer the main question “What is a good cash on cash return for a multi family investment property?”, let’s talk a little about the metric at hand first so it will be easier to understand how to determine what a good cash on cash return rate is.
What Is Cash on Cash Return?
As we mentioned before, the simplest way to describe cash on cash return (CoC return) is that it’s a return on investment metric. It is mainly used by real estate investors who are looking to buy investment properties to rent out. The cash on cash return calculation reveals the rate of return you should expect an income property to produce in relation to the amount of money you invest. So, in order to make it easier for you, here’s the cash on cash return formula:
Note here that we said the cash invested. It means that it only includes any amount of money you paid from your pockets. It includes the down payment (if you financed the rental property with a mortgage), the closing costs, in addition to any other costs you paid for in cash like renovation costs, for example.
As for the annual cash flow the income property produces (except for taxes), it is typically referred to as the Net Operating Income. And, in case you don’t know how to calculate cash flow, you deduct the monthly rental expenses from the monthly rental income. To turn it into NOI, you multiply the number by 12 months. But, here we are talking about a standard single family property. If you have a multi family investment, you need to multiply the cash flow by the number of units and then multiply the result by 12.
Let’s put it to work:
Since we know the cash on cash return formula, here’s an example of CoC return analysis for a multi family investment property:
You are buying a multi family home which consists of 4 units and it is listed for sale with a market price of $500,000. The previous owner provides you with reports that show the property rents for $1500/unit/mo. The estimated monthly expenses include $200 in insurance, $1000 in mortgage payments including the mortgage interest rate, and $300 in property management fees. You proceed with the purchase provided that you got a loan for $420,000 which means you paid $80,000 in down payment plus $10,000 in closing costs and other fees. Here’s how to go about calculating cash on cash return for this multi family investment:
Step 1: Calculate NOI
NOI = (Rental Income – Rental Expenses) * 12
= ($1500*4 units) – ($200 + $1000 + $300) * 12 = ($6000 – $1500) * 12 = $54,000 in annual positive cash flow which means you are actually making money in real estate.
Step 2: How Much Cash Did You Invest?
Since we are talking about the money you put from your pocket and not the bank loan, it is $80,000 in down payment + $10,000 in closing costs and additional fees = $90,000
Step 3: Apply the Cash on Cash Return Formula
CoC Return = NOI / Actual Cash Invested
= $54,000 / $90,000 = 0.6 (60%)
What Is a Good Cash on Cash Return for a Multi Family Investment?
A good cash on cash return is different from one location to another. Moreover, it is also different for each real estate investor. In general, an average of 8-12% is considered a reasonable rate for CoC return.
For some investors, ‘good’ is not what they’re looking for. Instead, if it’s not a high CoC rate, they won’t even bother looking at the investment property. Therefore, they’d be looking for higher cash on cash return rates. So, for our previous example, the multi family investment has a cash on cash return rate that is considered very high for this type of rental property.
Why Is Cash on Cash Return Significant?
There are many reasons cash on cash return is an essential part of the multi family real estate investment analysis. Measuring property profitability is the apparent reason. A real estate investor needs to know if the rental property he/she’s investing in is worth the investment to begin with.
Aside from measuring profitability, the CoC return can help real estate investors decide the best method for financing their multi family investment. As you already know, there is a myriad of investment property financing strategies in real estate. Although it is a great bonus for you, not every financing method will work for your multi family investment. Some will have stricter requirements while others will be easier to obtain. Also, some will contribute to improving your CoC return while other strategies might cause it to drop. So, calculating the CoC return will lead to better real estate investment and financing decisions.
The Cash on Cash Return Calculator
Calculating the cash on cash return for a multi family investment is not as easy as it seems. Sometimes you might find other variables that might change the course of your analysis process. These might include any hidden costs that you did not anticipate or any irregular costs that occur once in a while. So, what do you do if you are a beginner real estate investor who is not experienced in the business? You turn to real estate investment tools, of course. And one of these tools is the cash on cash return calculator.
On our platform, this tool comes as a part of the multi family investment calculator which is specifically designed to compute all profitability measures for a multi family investment. All you need to do as a real estate investor is to provide a few key numbers and relax while the tool does the job for you.
To learn more about this tool, click here.